FX Viewpoint 26 Nov 2021 | GBP: Near-term neutral, but more downside risks ahead | Article – HSBC VisionGo

GBP: Near-term neutral, but more downside risks ahead
Finance  ·    ·  6 mins read

  • GBP-USD is likely to move sideways over the near term…
  • ...even if the BOE delivers a rate hike on 16 December
  • Looking into 2022, we see further downside for the GBP, as economic headwinds could weigh on the UK’s rates outlook

After showing promise in early 2021, ultimately the GBP came under notable pressure in H2. This disappointment was the most notable in the negative reaction to the Bank of England’s (BOE) decision to keep rates unchanged on 4 November, contrary to the hike priced into the market (Chart 1). 

A BOE’s December hike is in the price, which seems a little out of sync with BOE Governor Bailey’s recent comments

We expect GBP-USD to move sideways over the near term, despite the market’s confidence for a 15bp hike (with a 98% chance; source: Bloomberg, 25 November 2021) when the BOE meets on 16 December. The recent upside surprises on inflation and activity domestically (Chart 2) may provide some stronger grounds for the BOE to begin normalising its policy. However, this may not be guaranteed. For example, an unexpected dour labour market report on 14 December would be untimely for the hawks. Recently, BOE Governor Andrew Bailey also questioned how effective rate hikes might be against supply-side inflationary pressures, reinforcing the comments made by BOE Chief Economist Huw Pill on 19 November (source: The Sunday Times, 21 November 2021). 

The GBP is unlikely to stand out as a high-yielding currency in the G10 space, in our view

Looking into 2022, we believe interest rates are likely to have a bigger impact on G10 FX. With at least three more hikes in the price next year, the interest rate level of the GBP is still below that of other high-yielding G10 currencies, such as the NZD, and the USD. 

We see further downside for the GBP next year

The 2022 outlook for the UK economy appears to be challenging, amid an uneven economic recovery, Brexit frictions, and ongoing negotiations regarding the Northern Ireland protocol, according to our economists. These may somewhat explain the persistently low expectations of the UK’s “terminal” interest rate, which makes the GBP vulnerable to a shift towards potentially faster tightening cycle in other G10 currencies, especially the USD, in our view. Finally, the GBP will probably also face a deteriorating current account deficit when the UK economy normalises.

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